The Autumn Statement announces that George Osborne is going to miss his deficit reduction target, the central defining purpose of the government and binding force of the Coalition. In the Emergency Budget last year, he committed to eliminating the structural current deficit by 2015/6 – the final Budget of the Parliament. The OBR report released at the same time as the Autumn Statement says (see here, p164) that the structural current deficit will now be 0.6% of GDP in 2015/6, not in balance, and well down on the 0.8% of GDP surplus that was forecast previously.
His announcement amounts to: he’s going to miss. There is no point in mincing words about that. I had argued he should say that he would do what was necessary to meet the target, without spelling out the details at this stage. Another option would have been for him simply to admit he was going to miss by a year, to express his regret at that, but to say he would redouble his efforts to ensure it would be met the year later.
Instead, Alas!, he has chosen the worst possible course on the issue, which is to pretend that what everyone knew was his target actually wasn’t, and that his target rolls forward every year. The OBR report (p5) says (and Osborne accepts):
“The Government’s fiscal mandate requires it to balance the structural or cyclically-adjusted current budget (CACB) at the end of the five year forecasting horizon, which… has now rolled forward to 2016-17.”
That is wrong, unacceptable, and potentially disastrous. The consequence is that Osborne is now saying he does not need ever to eliminate the current structural deficit.
As I explained previously, what a “rolling” mandate meant was that the target had to be met in every year. So, it had to be met in 2015/6 and in 2016/7 and in 2017/8 and so on. It did not mean that the target moved forwards in such a way that it never needed to be met. Here is what I said:
"Here is a “deficit elimination” plan totally compatible with this ridiculous proposal. We began with around £100bn in structural deficit. So what we’ll do is to announce £100bn in permanent tax rises, to commence next year, and a “mandate” that there should be no structural deficit forecast for five years ahead on a rolling five-year ahead basis. Then as next year begins, we’ll announce £100bn in one-off one-year tax cuts, to apply just this year. But of course the five-year-ahead target is still intact – now a year later. The year after, we’ll announce a different set of £100bn in one-off one-year tax cuts. And every year we’ll announce a different set of £100bn in one-off tax cuts. So the structural deficit will always be £100bn, but the mandate will always be satisfied, because on this nonsensical interpretation of a rolling five-year programme for eliminating the structural deficit, it is never required that the structural deficit ever actually be eliminated!"
As someone put it to me, he had a rolling plan of giving up smoking, on a five-year rolling basis. Sadly, it hadn’t seemed to be very effective.
This is nonsense, journalists can and will shred it, and bond markets will react very badly if they believe it.
I am in the odd position of very much hoping that bond markets do not believe the Chancellor. To put it bluntly, I hope they think he’s just plain lying, and that in fact the government does intend to eliminate the structural deficit rather than always allowing a structural deficit provided it can be projected to disappear five years ahead. Fingers crossed.
The OBR changes things in a number of other ways, connected with the structural deficit. I said the number I would be most interested in would be the OBR’s view on the sustainable growth rate of the economy. Previously, it had said that the sustainable growth rate was 2.35% now but would fall to 2.1% by 2015/6. I had said that on my own models the rate was currently barely above 1%, but that the OBR was unlikely to downgrade the rate to my number – perhaps it might go to 1.7%.
I was wrong. The OBR did indeed downgrade its estimate of the current sustainable growth rate to 1% currently, rising to 1.2% in 2012. If we consider Table 3.2, p53, we see that potential output is thereafter expected to leap up to 2.0% in 2013 and from 2014 onwards be 2.3%. I do think that potential output growth can, in due course, rise back above 2.0%. But achieving that by 2014 seems a bit ambitious, without there being specific measures to help deliver it, such as rises in productivity growth in the public sector.
The OBR’s likely over-optimism on the sustainable growth rate means that even the miss of the 2015/6 structural deficit reduction target announced today is likely to be an understatement.
And, of course, all this assumes that there is not a meltdown in the Eurozone – an event that could induce a further 10% contraction in UK GDP.
If there is further recession, or if the OBR is still over-estimating the medium-term sustainable growth rate, then in due course George Osborne will need to announce additional spending cuts. Total Managed Expenditure was today projected to fall 0.9% in each of 2015/6 and 2016/7, over-and-above the spending reduction programme previously announced. Good, but unlikely to be enough – and lacking credibility in that it is a commitment for the next Parliament.
We are skating on very thin ice here. Any sense of resiling from its commitment to reducing the deficit, and Britain will come squarely in the sights of the bond markets. Osborne is taking risks, now. He may feel he has no political choice, and I urged that he should have been seeking a six-month window of masterful inaction. But it is very risky to give the impression that the target need never be eliminated, especially when most of the risks are to the downside.
In truth, the government is going to need to do more, do more that is painful, and do it fairly soon. Are the Lib Dem backbenchers up for it?